Why Heinz Deal Doesn’t Rule Out Bigger Acquisition by Buffett

by Carla FriedFebruary 14, 2013

The CEO of H.J. Heinz (HNZ) is hailing the $28 billion (including assumption of $5 billion of debt) buyout of the ketchup king by Warren Buffett’s Berkshire Hathaway (BRK.B) and 3G Capital Management as the biggest deal in the food services industry. But for Buffett, who has said his “elephant gun” is loaded and he is “itchy” for an acquisition, this deal ranks as a baby elephant at best.

Buffett told CNBC this morning that Berkshire Hathaway will fork over about $12 billion to $13 billion in cash as its share of the acquisition. About $8 billion of that will be for preferred shares paying Berkshire 9%.

The $12 billion direct investment by Berkshire is less than half the $25 billion Berkshire spent in 2010 to buy up all of Burlington Northern. If Buffett had the desire, that bloated cash stake could have easily absorbed the cost of making the deal without a partner. In fact, while the sexy headline is to focus on Buffett and Berkshire, clearly 3G was the driver. Heinz CEO William Johnson said in a press conference announcing the deal that the ball got rolling eight weeks ago at a dinner with 3G’s managing partner Alex Behring. Johnson said he was initially thinking 3G -- which owns Burger King and uses Heinz products -- might have wanted to air some concerns about that business. Moreover, Buffett told CNBC that 3G, not Berkshire, will be the driver going forward.

While Heinz certainly qualifies as a classic Berkshire Hathaway investment in terms of its global reach and shareholder-focused management team, the pricing doesn’t scream deep value.

Berkshire Hathaway and 3G have agreed to pay $72.50 a share, a 19% premium to where the stock closed the day before the deal was announced. And that stock was already on a tear. At the press conference, Heinz CEO Johnson referred to the “already historic high share price” when detailing the premium shareholders would receive.

Even before today’s big price spike, Heinz was trading at a PE ratio near 20, compared to about 13 for the S&P 500. Sure, a high quality global behemoth should carry a premium in this sort of market environment, but it’s interesting that Buffett was willing to bite right now. He said he has had a “file” on Heinz for decades; yet only decided to pull the trigger now, seemingly at the behest of 3G.

Buffett has said he likes to keep about $20 billion in cash as a rainy day fund. Even after the Heinz deal closes, Berkshire looks to have another $13 billion or so it could spend on a deal and still have its $20 billion cushion. If Buffett is willing to buy into Heinz at a premium to an already strong valuation it signals he’s still in the hunt in today’s market. Stay tuned.

Carla Fried, a senior contributing editor at ycharts.com, has covered investing for more than 25 years. Her work appears in The New York Times, Bloomberg.com and Money Magazine. She can be reached at editor@ycharts.com.